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How to find the ‘good’ companies delivering stable revenues

06 November 2018

M&G Investments’ Alex Araujo explains how he identifies the high-quality, sustainable companies capable of delivering long-term cashflows.

By Maitane Sardon,

Reporter, FE Trustnet

Transport infrastructure firm Ferrovial, data centre provider Equinix and student housing company Unite Group are three high-quality, sustainable businesses delivering stable revenues, according to M&G Investments’ Alex Araujo.

Araujo, lead manager of the £18.4m M&G Global Listed Infrastructure fund launched last year, said that companies ticking the environmental, social & governance (ESG) boxes also often have long-life cash flow streams.

He explained: “We have an ESG process integrated into our approach where we seek to ensure sustainability.

“We want to avoid the loss of a licence to operate whether it is for social or for political reasons. We want to make sure that we don’t have stranded assets or assets that might look good today but in 10 years will be irrelevant, such as coal fire power plants in Europe for example.”

Below, Araujo highlights three companies that adhere to its ESG criteria and are capable of delivering stable revenues.

 

Ferrovial

One of the high-quality businesses Araujo said has been present in the portfolio since the fund was launched is Spanish transport infrastructure firm Ferrovial.

Performance of Ferrovial over 5yrs

 

Source: FE Analytics

The firm is involved in the design, construction, financing, operation and maintenance of transport infrastructure and urban services.

It operates through four divisions in over 15 countries, including the UK, where Ferrovial has developed and produced airports in Heathrow, Glasgow Aberdeen and Southampton.

“Because of short-termism and because of irrational behaviour the listed equity market tends not to value businesses like Ferrovial appropriately,” said the manager.

“So, you tend to see the valuation of infrastructure assets when they trade being at a very high premium and London City Airport is a very good example.

“This, for us, is the market not appreciating the value of those long-term cash flow streams because the market likes to look at the next quarter, next year, etc, instead of considering the fact that these cashflow streams are very long-term and reliable.”


Araujo added: “So, it’s been interesting in various episodes and including this month as the market suddenly realising with all the volatility in other parts of the market – whether it is tech or anything else – these businesses provide that consistency and that consistency is being rewarded right now.”

According to Araujo, although businesses like Ferrovial sometimes come out of favour, they deliver consistent growing cash flow streams over the long term, a reason the team believe they will provide other characteristics and benefits with less volatility than the broader market.

 

Unite Group

An increasing need for student accommodation in the UK has led the team behind M&G Global Listed Infrastructure to add student accommodation provider Unite Group.

The company provides residential accommodation to approximately 50,000 students in around 140 buildings across the UK and is one of the largest – and oldest – purpose-built student accommodation companies in the country.

Unite Group fits into the social infrastructure segment the team has added to the strategy given the demographic challenge and the growing importance of hospital and other related infrastructure.

This area, he said, tends to be a defensive part of the strategy.

“There is a need for increasing student accommodation in UK universities and we don’t expect will be affected by things like Brexit as this is still a very important country when it comes to high quality education,” the manager explained.

 

Equinix

Equinix, the US multi-national company that specialises in internet connection and related businesses, is another business the team favours.

The firm connects companies that build private clouds on their platforms to the underlying networks and public cloud providers they depend on.

According to Araujo, Equinix fits into the structural growth area of the portfolio.

Performance of Equinix over 5yrs

 

Source: Google Finance

“These are structural growth because of what tends to happen with fast-growing businesses like, for example, Google or Facebook,” said the manager. “The faster they grow, the more physical space they require for their equipment.”


 

The M&G Global Listed Infrastructure fund is not a high yield defensive bond proxy-type of strategy, said the manager.

Instead, the team is finding high-quality businesses in North America, where the utilities sector is a significant area of investment.

Utilities currently make up around 30-40 per cent of the fund’s total exposure, with Araujo noting that it is extremely important to be invested in a favourable regulatory environment.

“North America is one of the best places to invest in the utilities businesses. It has a favourable regulatory environment although it depends on what state and province,” he said.

“Because we have a listed infrastructure strategy we can be flexible and invest where we feel welcome, we are not locked in,” said the manager, highlighting continental Europe as another favourable environment.

However, he said, the UK is unattractive because the bodies that regulate the utilities sector have squeezed the allowable return by way of the cost of capital regulation on businesses that operate on regulated energy and water.

“For us, that’s a reason why those businesses haven’t been able to grow their dividends consistently and that’s why they have underperformed utilities in other parts of the world where regulation allows for growing dividend streams.”

The manager concluded: “The businesses we invest in have to be operating in an environment that will allow them to grow over time.”

Since launch in October last year, M&G Global Listed Infrastructure has delivered a 1.14 per cent total return compared with a gain of 5.30 per cent for the average fund in the IA Global sector and a 6.35 per cent for the MSCI AC World index.

Performance of fund vs sector and index since launch

 

Source: FE Analytics

M&G Global Listed Infrastructure has an ongoing charges figure (OCF) of 1.1 per cent.

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